A legal challenge by a trade group representing builders has targeted two small cities in Hennepin County, alleging they overcharged for building permits by $5.5 million over five years.

Housing First Minnesota sent letters to officials in Dayton and Corcoran asking them to bring their fees in line with state law and refund property owners whose builders were charged too much. The group also asked the state Department of Labor and Industry to review the practices of the two cities.

State law requires fees be "fair, reasonable, and proportionate" to the actual cost of provided building services. The law doesn't detail how fees should be determined or the way excess money can be spent. The state also receives required annual reports from municipalities on charged fees and related expenses, but there isn't an agency responsible for investigating irregularities.

"The expectation is that you can't charge to excess," said David Siegel, executive director of Housing First Minnesota. "These cities are taking a bunch of dough and spending it on unrelated projects. We fundamentally can't condone this."

Officials from Dayton and Corcoran didn't respond to requests for an interview. Attorney Katherine Swenson, who is representing both cities, said she wouldn't comment on pending disputes.

Housing First Minnesota, which also says it advocates for affordable housing, represents more than 1,000 builders, remodelers, developers and industry suppliers throughout the state. The organization was known as the Builders Association of the Twin Cities until four years ago.

Corcoran didn't respond to Housing First's letter, which was sent in December. Dayton responded that it would lower a different fee — for plan review — to a flat rate charge. Officials later scrapped the change because the city determined the fee structure wasn't legal.

In March, Housing First filed an appeal over the permit fees with the Department of Labor and Industry. The agency ruled that the issue didn't fall under its jurisdiction but made no remarks on the merits of the case.

Siegel wouldn't say if they would pursue further action against the cities.

Fee reports required

While there is no set guideline for permit fees, they generally are determined by the project cost, including materials and labor plus expenses for electrical, gas, mechanical, plumbing equipment and permanent systems. The fee could be a few hundred dollars for a simple remodeling job to thousands of dollars for a new home.

The Legislature passed a bill to require the annual reporting of permit fees about 20 years ago to improve pricing transparency. The report must include expense information about salary, travel and administrative costs. Municipalities that collect more than $5,000 in fees in a year and employ a certified building inspector have to file a report.

The Department of Labor and Industry has authority to enforce compliance and assess a penalty for failing to file a report. Only about 100 municipalities filed each year from 2014 to 2017.

In the past several years, the department has prioritized training and outreach on the reporting requirement. Last year, all 507 cities, counties and townships that needed to report fees were in compliance, said Scott McLellan, the director of construction codes and licensing for the Department of Labor and Industry.

"The intent of the building permit fees isn't to pay for other expenses," he said. "In any given year, fees and revenue are never going to line up because you can't control construction activity. But any extra dollars should be reserved for future fee expenses."

McLellan said his department isn't the watchdog for how cities disperse their fees, but the reports have been used to challenge the way fees are spent. It wouldn't be practical for the department to audit every city's report, he said.

"It would be an enormous undertaking to substantiate the accuracy of each report and you would need to hire auditors," he said. "I just don't know a better process to report and track building permit fees and expenses."

In a recent study by the Housing Affordability Institute, a state developers' advocacy organization, municipalities self-reported collecting $73 million more fee revenue than was spent on related services from 2014 to 2018. Woodbury and Plymouth were the cities with the highest excess revenue.

Cities' uses for fees

Woodbury had collected more than $13 million in fees, revenue that City Administrator Clint Gridley said would be typical for a growing city with new homes, apartment complexes and businesses under construction. The money is placed into a capital improvement fund for one-time projects that could range from buying a police squad car to city building renovations.

The report was incomplete and misleading, he said.

The majority of the fees outlined in the report are required for a city to recover its costs for development, and some are held in escrow and later returned to the developer, he said.

Calculations included in the report failed to account for "in-and-out moneys" that were returned to developers or credits that would reduce the net total fees charged to them.

"We have worked hard to collaborate with [Housing First Minnesota], including regularly submitting requested data for their reports," he said.

"Taking a combative — rather than collaborative — approach related to building fees may negatively impact both parties as cities may have to delay projects to re-examine fee systems. This is not a desirable outcome for either side."

Woodbury Mayor Anne Burt criticized Housing First's efforts at the Legislature to introduce what she called a collection of "pre-emption legislation."

Each bill, including one addressing collecting fees from developers, erodes or eliminates the local control entrusted to cities in overseeing the growth and development of their community, she said.

"These legislative proposals are being promoted on the basis that they will enhance new home affordability," she said.

"From what I have seen, there has been no independent data documenting that legislative change will actually lower the net sales price of a new home," she said.

Corcoran earmarked nearly $1 million in permit fees, earned between 2014 to 2018, to pay for renovation to its city hall, Siegel said. In recent years, the city averaged about 70 new homes a year, he said.

"Our legal challenge isn't a gotcha. It's really about another way to help increase affordable housing, and there is no room for inefficiency," Siegel said. "If you want a new city hall, you can't do it on the back of property owners."

David Chanen • 612-673-4465